Here’s the One Thing That’s Holding up a Potential Twitter Acquisition

A monitor displays financial news about Twitter at the New York Stock Exchange (NYSE) in New York on Feb. 11.Photograph by Michael Nagle — Bloomberg via Getty Images

If there’s one thing that has been driving Twitter’s share price over the past year or so, it’s the repeated rumors that the company is going to be acquired. With every new rumor or speculation, the share price sees a little spike, as weary investors hope for the best.

But is an acquisition likely? And if so, who might buy it, and for how much? Those are the multibillion-dollar questions that crop up every time there is a new report about a bid.

The latest round came when Twitter co-founder Evan Williams said the company would have to consider a sale if an offer appeared. It may have been a boilerplate comment about fiduciary duty, but the stock jumped by 6%, just as it did when there was a rumor about Saudi billionaire Prince Al Waleed bin Talal and former Microsoft CEO Steve Ballmer buying it.

According to a report at Recode, the company is going to consider the possibility of a sale at a board meeting later this week—although as many observers pointed out, such things are often discussed at meetings even when there is no offer on the table. Nevertheless, that report also pushed the stock up.

Unfortunately for long-time Twitter investors, the ones who have been stuck with it ever since it hit $70 in the weeks following its IPO, these rumors and the spikes they create ironically make the problem worse.

Why? Because Twitter (TWTR) is arguably already overvalued by any reasonable metric, and every increase in the stock price that is driven by speculation actually makes it less likely the company will be acquired, not more.

In that sense, Twitter’s stock is trapped in a kind of Catch-22.

When the shares hit a low of $13.73 earlier this year, the company’s market value was in the $10 billion range. Even with a bit of a premium to make an offer more appealing, the total bill might have been $12 billion, which wouldn’t be an unreasonable amount for someone like Google.

But now, after weeks of rumors, Twitter’s stock has climbed back to the $20 level, which makes the whole company worth about $15 billion, or closer to $20 billion with a takeover premium included. And it’s difficult to argue that the business is actually worth that much to any kind of strategic buyer.

The company’s revenue has been climbing, with sales up 20% in the most recent quarter, giving it a 12-month run rate of about $2.4 billion. That’s not too shabby. However, Twitter also continues to lose massive amounts of money: More than $100 million in the latest quarter, $500 million last year, and so on.

Twitter might be a target for acquisition. Watch:

The big culprit isn’t the potential weakness in Twitter’s advertising business (although that is a problem). The biggest factor is the equity-based compensation the company gives to employees: $167 million, or almost 30% of the company’s revenue in the last quarter. That’s more than twice what Facebook hands out.

Even if you assume that someone like Google (GOOG) would be interested in Twitter’s business because it wants a social-media platform (since Google+ turned out to be a disaster), that’s a lot of cash out the door for something you are likely to pay $15 billion to $20 billion for at current prices.

LinkedIn’s acquisition by Microsoft for $26 billion sparked some hope in Twitter investors that it might be acquired in a similar kind of deal, but analysts note that LinkedIn’s business is significantly better than Twitter’s. Its gross profit margin of 86% is much higher than Twitter’s 67%, and it has more valuable data on its users, the kind an acquirer like Microsoft or Google would be interested in.

That all produced a premium price of more than eight times revenue for LinkedIn. Twitter would be lucky to get half that, which would put the acquisition price below $10 billion, at a time when the market seems to think (or hopes) that the company is worth $15 billion.

That’s the kind of math any potential acquirer is going to be doing, and it’s a value gap that makes a takeover bid for the company look less and less likely, at least until the stock price falls to a level that seems more realistic.

Could a more valuable offer come out of left field, the way Facebook’s (FB) $19 billion deal for WhatsApp did? Perhaps. But don’t bet on it.